{"id":6503,"date":"2018-02-05T15:37:11","date_gmt":"2018-02-05T15:37:11","guid":{"rendered":"https:\/\/courses.lumenlearning.com\/wm-microeconomics\/chapter\/reading-monopolistic-competitors-and-entry\/"},"modified":"2018-06-05T20:36:12","modified_gmt":"2018-06-05T20:36:12","slug":"entry-exit-and-profits-in-the-long-run","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/chapter\/entry-exit-and-profits-in-the-long-run\/","title":{"raw":"Entry, Exit and Profits in the Long Run","rendered":"Entry, Exit and Profits in the Long Run"},"content":{"raw":"<div class=\"textbox learning-objectives\">\r\n<h3>Learning Objectives<\/h3>\r\n<ul>\r\n \t<li>Explain how short run and long run equilibrium affect entry and exit in a monopolistically competitive industry<\/li>\r\n<\/ul>\r\n<\/div>\r\n<h2>Monopolistic Competitors and Entry<\/h2>\r\nA monopolistic competitor, like firms in other market structures, may earn profits in the short run, but that doesn't mean they'll be able to keep them.\u00a0If one monopolistic competitor earns positive economic profits, other firms will be tempted to enter the market. A gas station with a great location must worry that other gas stations might open across the street or down the road\u2014and perhaps the new gas stations will sell coffee or have a carwash or some other attraction to lure customers. A successful restaurant with a unique barbecue sauce must be concerned that other restaurants will try to copy the sauce or offer their own unique recipes. A laundry detergent with a great reputation for quality must be concerned that other competitors may seek to build their own reputations.\r\n\r\nThe entry of other firms into the same general market (like gas, restaurants, or detergent) shifts the demand curve faced by a monopolistically competitive firm. As more firms enter the market, the quantity demanded at a given price for any particular firm will decline, and the firm's perceived demand curve will shift to the left. As a firm's perceived demand curve shifts to the left, its marginal revenue curve will shift to the left, too. The shift in marginal revenue will change the profit-maximizing quantity that the firm chooses to produce, since marginal revenue will then equal marginal cost at a lower quantity.\r\n\r\nFigure 1(a) shows a situation in which a monopolistic competitor was earning a profit with its original perceived demand curve (D<sub>0<\/sub>). The intersection of the marginal revenue curve (MR<sub>0<\/sub>) and marginal cost curve (MC) occurs at point S, corresponding to quantity Q<sub>0<\/sub>, which is associated on the demand curve at point T with price P<sub>0<\/sub>. The combination of price P<sub>0<\/sub> and quantity Q<sub>0<\/sub> lies above the average cost curve, which shows that the firm is earning positive economic profits.\r\n\r\n[caption id=\"\" align=\"aligncenter\" width=\"780\"]<img src=\"https:\/\/textimgs.s3.amazonaws.com\/OSecon\/m63857\/CNX_Econ_C10_009.jpg#fixme\" alt=\"The two graphs show how under monopolistic competition profits induce firms to enter an industry and losses induce firms to exit an industry.\" width=\"780\" height=\"321\" \/> <strong>Figure 1. Monopolistic Competition, Entry, and Exit.<\/strong> (a) At P<sub>0<\/sub> and Q<sub>0<\/sub>, the monopolistically competitive firm in this figure is making a positive economic profit. This is clear because if you follow the dotted line above Q<sub>0<\/sub>, you can see that price is above average cost. Positive economic profits attract competing firms to the industry, driving the original firm\u2019s demand down to D<sub>1<\/sub>. At the new equilibrium quantity (P<sub>1<\/sub>, Q<sub>1<\/sub>), the original firm is earning zero economic profits, and entry into the industry ceases. In (b) the opposite occurs. At P<sub>0<\/sub> and Q<sub>0<\/sub>, the firm is losing money. If you follow the dotted line above Q<sub>0<\/sub>, you can see that average cost is above price. Losses induce firms to leave the industry. When they do, demand for the original firm rises to D<sub>1<\/sub>, where once again the firm is earning zero economic profit.[\/caption]\r\n\r\nUnlike a monopoly, with its high barriers to entry, a monopolistically competitive firm with positive economic profits will attract competition. When another competitor enters the market, the original firm's perceived demand curve shifts to the left, from D<sub>0<\/sub> to D<sub>1<\/sub>, and the associated marginal revenue curve shifts from MR<sub>0<\/sub> to MR<sub>1<\/sub> (as shown in figure 1a). The new profit-maximizing output is Q<sub>1<\/sub>, because the intersection of the MR<sub>1<\/sub> and MC now occurs at point U. Moving vertically up from that quantity on the new demand curve, the optimal price is at P<sub>1<\/sub>.\r\n\r\nAs long as the firm is earning positive economic profits, new competitors will continue to enter the market, reducing the original firm's demand and marginal revenue curves. The long-run equilibrium is shown in the figure at point V, where the firm's perceived demand curve touches the average cost curve. When price is equal to average cost, economic profits are zero. Thus, although a monopolistically competitive firm may earn positive economic profits in the short term, the process of new entry will drive down economic profits to zero in the long run. Remember that zero economic profit is not equivalent to zero accounting profit. A zero economic profit means the firm's accounting profit is equal to what its resources could earn in their next best use. Figure 1(b) shows the reverse situation, where a monopolistically competitive firm is originally losing money. The adjustment to long-run equilibrium is analogous to the previous example. The economic losses lead to firms exiting, which will result in increased demand for this particular firm, and consequently lower losses. Firms exit up to the point where there are no more losses in this market, for example when the demand curve touches the average cost curve, as in point Z.\r\n\r\nMonopolistic competitors can make an economic profit or loss in the short run, but in the long run, entry and exit will drive these firms toward a zero economic profit outcome. However, the zero economic profit outcome in monopolistic competition looks different from the zero economic profit outcome in perfect competition in several ways relating both to efficiency and to variety in the market.\r\n<div class=\"textbox tryit\">\r\n<h3>Try It<\/h3>\r\nhttps:\/\/assessments.lumenlearning.com\/assessments\/8030\r\n\r\n<\/div>\r\n<div class=\"textbox examples\">\r\n<h3>Watch It<\/h3>\r\nThis video demonstrates the graph for a monopolistic competitive firm. In the short run, the graph looks like just like the graph for a monopoly, with the firm making an economic profit. In the long run, however, firms will enter the industry and cause the demand curve to shift to the left, which results in no economic profit.\r\n\r\n<iframe src=\"https:\/\/www.youtube.com\/embed\/8a3gXThQeK0?rel=0&amp;showinfo=0\" width=\"800\" height=\"470\" frameborder=\"0\"><\/iframe>\r\n\r\n<\/div>\r\n<div class=\"textbox tryit\">\r\n<h3>Try It<\/h3>\r\nThese questions allow you to get as much practice as you need, as you can click the link at the top of the first question (\u201cTry another version of these questions\u201d) to get a new set of questions. Practice until you feel comfortable doing the questions.\r\n\r\n[ohm_question]155117-155134-155116[\/ohm_question]\r\n\r\n<\/div>","rendered":"<div class=\"textbox learning-objectives\">\n<h3>Learning Objectives<\/h3>\n<ul>\n<li>Explain how short run and long run equilibrium affect entry and exit in a monopolistically competitive industry<\/li>\n<\/ul>\n<\/div>\n<h2>Monopolistic Competitors and Entry<\/h2>\n<p>A monopolistic competitor, like firms in other market structures, may earn profits in the short run, but that doesn&#8217;t mean they&#8217;ll be able to keep them.\u00a0If one monopolistic competitor earns positive economic profits, other firms will be tempted to enter the market. A gas station with a great location must worry that other gas stations might open across the street or down the road\u2014and perhaps the new gas stations will sell coffee or have a carwash or some other attraction to lure customers. A successful restaurant with a unique barbecue sauce must be concerned that other restaurants will try to copy the sauce or offer their own unique recipes. A laundry detergent with a great reputation for quality must be concerned that other competitors may seek to build their own reputations.<\/p>\n<p>The entry of other firms into the same general market (like gas, restaurants, or detergent) shifts the demand curve faced by a monopolistically competitive firm. As more firms enter the market, the quantity demanded at a given price for any particular firm will decline, and the firm&#8217;s perceived demand curve will shift to the left. As a firm&#8217;s perceived demand curve shifts to the left, its marginal revenue curve will shift to the left, too. The shift in marginal revenue will change the profit-maximizing quantity that the firm chooses to produce, since marginal revenue will then equal marginal cost at a lower quantity.<\/p>\n<p>Figure 1(a) shows a situation in which a monopolistic competitor was earning a profit with its original perceived demand curve (D<sub>0<\/sub>). The intersection of the marginal revenue curve (MR<sub>0<\/sub>) and marginal cost curve (MC) occurs at point S, corresponding to quantity Q<sub>0<\/sub>, which is associated on the demand curve at point T with price P<sub>0<\/sub>. The combination of price P<sub>0<\/sub> and quantity Q<sub>0<\/sub> lies above the average cost curve, which shows that the firm is earning positive economic profits.<\/p>\n<div style=\"width: 790px\" class=\"wp-caption aligncenter\"><img loading=\"lazy\" decoding=\"async\" src=\"https:\/\/textimgs.s3.amazonaws.com\/OSecon\/m63857\/CNX_Econ_C10_009.jpg#fixme\" alt=\"The two graphs show how under monopolistic competition profits induce firms to enter an industry and losses induce firms to exit an industry.\" width=\"780\" height=\"321\" \/><\/p>\n<p class=\"wp-caption-text\"><strong>Figure 1. Monopolistic Competition, Entry, and Exit.<\/strong> (a) At P<sub>0<\/sub> and Q<sub>0<\/sub>, the monopolistically competitive firm in this figure is making a positive economic profit. This is clear because if you follow the dotted line above Q<sub>0<\/sub>, you can see that price is above average cost. Positive economic profits attract competing firms to the industry, driving the original firm\u2019s demand down to D<sub>1<\/sub>. At the new equilibrium quantity (P<sub>1<\/sub>, Q<sub>1<\/sub>), the original firm is earning zero economic profits, and entry into the industry ceases. In (b) the opposite occurs. At P<sub>0<\/sub> and Q<sub>0<\/sub>, the firm is losing money. If you follow the dotted line above Q<sub>0<\/sub>, you can see that average cost is above price. Losses induce firms to leave the industry. When they do, demand for the original firm rises to D<sub>1<\/sub>, where once again the firm is earning zero economic profit.<\/p>\n<\/div>\n<p>Unlike a monopoly, with its high barriers to entry, a monopolistically competitive firm with positive economic profits will attract competition. When another competitor enters the market, the original firm&#8217;s perceived demand curve shifts to the left, from D<sub>0<\/sub> to D<sub>1<\/sub>, and the associated marginal revenue curve shifts from MR<sub>0<\/sub> to MR<sub>1<\/sub> (as shown in figure 1a). The new profit-maximizing output is Q<sub>1<\/sub>, because the intersection of the MR<sub>1<\/sub> and MC now occurs at point U. Moving vertically up from that quantity on the new demand curve, the optimal price is at P<sub>1<\/sub>.<\/p>\n<p>As long as the firm is earning positive economic profits, new competitors will continue to enter the market, reducing the original firm&#8217;s demand and marginal revenue curves. The long-run equilibrium is shown in the figure at point V, where the firm&#8217;s perceived demand curve touches the average cost curve. When price is equal to average cost, economic profits are zero. Thus, although a monopolistically competitive firm may earn positive economic profits in the short term, the process of new entry will drive down economic profits to zero in the long run. Remember that zero economic profit is not equivalent to zero accounting profit. A zero economic profit means the firm&#8217;s accounting profit is equal to what its resources could earn in their next best use. Figure 1(b) shows the reverse situation, where a monopolistically competitive firm is originally losing money. The adjustment to long-run equilibrium is analogous to the previous example. The economic losses lead to firms exiting, which will result in increased demand for this particular firm, and consequently lower losses. Firms exit up to the point where there are no more losses in this market, for example when the demand curve touches the average cost curve, as in point Z.<\/p>\n<p>Monopolistic competitors can make an economic profit or loss in the short run, but in the long run, entry and exit will drive these firms toward a zero economic profit outcome. However, the zero economic profit outcome in monopolistic competition looks different from the zero economic profit outcome in perfect competition in several ways relating both to efficiency and to variety in the market.<\/p>\n<div class=\"textbox tryit\">\n<h3>Try It<\/h3>\n<p>\t<iframe id=\"lumen_assessment_8030\" class=\"resizable\" src=\"https:\/\/assessments.lumenlearning.com\/assessments\/load?assessment_id=8030&#38;embed=1&#38;external_user_id=&#38;external_context_id=&#38;iframe_resize_id=lumen_assessment_8030\" frameborder=\"0\" style=\"border:none;width:100%;height:100%;min-height:400px;\"><br \/>\n\t<\/iframe><\/p>\n<\/div>\n<div class=\"textbox examples\">\n<h3>Watch It<\/h3>\n<p>This video demonstrates the graph for a monopolistic competitive firm. In the short run, the graph looks like just like the graph for a monopoly, with the firm making an economic profit. In the long run, however, firms will enter the industry and cause the demand curve to shift to the left, which results in no economic profit.<\/p>\n<p><iframe loading=\"lazy\" src=\"https:\/\/www.youtube.com\/embed\/8a3gXThQeK0?rel=0&amp;showinfo=0\" width=\"800\" height=\"470\" frameborder=\"0\"><\/iframe><\/p>\n<\/div>\n<div class=\"textbox tryit\">\n<h3>Try It<\/h3>\n<p>These questions allow you to get as much practice as you need, as you can click the link at the top of the first question (\u201cTry another version of these questions\u201d) to get a new set of questions. Practice until you feel comfortable doing the questions.<\/p>\n<p><iframe loading=\"lazy\" id=\"ohm155117\" class=\"resizable\" src=\"https:\/\/ohm.lumenlearning.com\/multiembedq.php?id=155117-155134-155116&theme=oea&iframe_resize_id=ohm155117&show_question_numbers\" width=\"100%\" height=\"150\"><\/iframe><\/p>\n<\/div>\n\n\t\t\t <section class=\"citations-section\" role=\"contentinfo\">\n\t\t\t <h3>Candela Citations<\/h3>\n\t\t\t\t\t <div>\n\t\t\t\t\t\t <div id=\"citation-list-6503\">\n\t\t\t\t\t\t\t <div class=\"licensing\"><div class=\"license-attribution-dropdown-subheading\">CC licensed content, Shared previously<\/div><ul class=\"citation-list\"><li>Monopolistic Competition. <strong>Authored by<\/strong>: OpenStax College. <strong>Located at<\/strong>: <a target=\"_blank\" href=\"https:\/\/cnx.org\/contents\/vEmOH-_p@4.44:gKktXtD8@6\/Monopolistic-Competition\">https:\/\/cnx.org\/contents\/vEmOH-_p@4.44:gKktXtD8@6\/Monopolistic-Competition<\/a>. <strong>License<\/strong>: <em><a target=\"_blank\" rel=\"license\" href=\"https:\/\/creativecommons.org\/licenses\/by\/4.0\/\">CC BY: Attribution<\/a><\/em>. <strong>License Terms<\/strong>: Download for free at http:\/\/cnx.org\/contents\/bc498e1f-efe9-43a0-8dea-d3569ad09a82@4.44<\/li><\/ul><div class=\"license-attribution-dropdown-subheading\">All rights reserved content<\/div><ul class=\"citation-list\"><li>Monopolistic Competition- Short Run and Long Run- Micro 4.12. <strong>Provided by<\/strong>: ACDC Leadership. <strong>Located at<\/strong>: <a target=\"_blank\" href=\"https:\/\/www.youtube.com\/watch?time_continue=71&#038;v=8a3gXThQeK0\">https:\/\/www.youtube.com\/watch?time_continue=71&#038;v=8a3gXThQeK0<\/a>. <strong>License<\/strong>: <em>Other<\/em>. <strong>License Terms<\/strong>: Standard YouTube License<\/li><\/ul><\/div>\n\t\t\t\t\t\t <\/div>\n\t\t\t\t\t <\/div>\n\t\t\t <\/section>","protected":false},"author":29,"menu_order":5,"template":"","meta":{"_candela_citation":"[{\"type\":\"cc\",\"description\":\"Monopolistic Competition\",\"author\":\"OpenStax College\",\"organization\":\"\",\"url\":\"https:\/\/cnx.org\/contents\/vEmOH-_p@4.44:gKktXtD8@6\/Monopolistic-Competition\",\"project\":\"\",\"license\":\"cc-by\",\"license_terms\":\"Download for free at http:\/\/cnx.org\/contents\/bc498e1f-efe9-43a0-8dea-d3569ad09a82@4.44\"},{\"type\":\"copyrighted_video\",\"description\":\"Monopolistic Competition- Short Run and Long Run- Micro 4.12\",\"author\":\"\",\"organization\":\"ACDC Leadership\",\"url\":\"https:\/\/www.youtube.com\/watch?time_continue=71&v=8a3gXThQeK0\",\"project\":\"\",\"license\":\"other\",\"license_terms\":\"Standard YouTube License\"}]","CANDELA_OUTCOMES_GUID":"ff476186-ecb8-4e61-81da-4a472823993f, f27fc7aa-19be-40fb-ad84-02fdf16f96fc","pb_show_title":"on","pb_short_title":"","pb_subtitle":"","pb_authors":[],"pb_section_license":""},"chapter-type":[],"contributor":[],"license":[],"class_list":["post-6503","chapter","type-chapter","status-publish","hentry"],"part":6490,"_links":{"self":[{"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/chapters\/6503","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/chapters"}],"about":[{"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/wp\/v2\/types\/chapter"}],"author":[{"embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/wp\/v2\/users\/29"}],"version-history":[{"count":13,"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/chapters\/6503\/revisions"}],"predecessor-version":[{"id":9170,"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/chapters\/6503\/revisions\/9170"}],"part":[{"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/parts\/6490"}],"metadata":[{"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/chapters\/6503\/metadata\/"}],"wp:attachment":[{"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/wp\/v2\/media?parent=6503"}],"wp:term":[{"taxonomy":"chapter-type","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/pressbooks\/v2\/chapter-type?post=6503"},{"taxonomy":"contributor","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/wp\/v2\/contributor?post=6503"},{"taxonomy":"license","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/cuny-kbcc-microeconomics\/wp-json\/wp\/v2\/license?post=6503"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}